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Euro zone bond yields and euro slide after ECB unleashes stimulus

LONDON (Reuters) – Bond yields tumbled across the euro zone on Thursday and the single currency fell toward recent 28-month lows after the European Central Bank cut interest rates and resumed asset buying, while bank shares ceded early knee-jerk gains.

The ECB, as expected cut its deposit rate by 10 basis points to a record low of -0.5%, promised that rates would stay low for longer and said it would restart bond purchases at a rate of 20 billion euros a month from Nov. 1.

The package of measures cheered investors, who in recent weeks had dialed back expectations for aggressive easing following hawkish comments from policymakers.

The ECB also eased the terms of its long-term loan facility to banks and said it would introduce a multi-tier deposit rate facility to help them.

“The first big surprise is data-dependent forward guidance. The rates market will see that as a signal that rates will remain low for even lower,” said Antoine Bouvet, senior rates strategist at ING.

“The second surprise is a more generous TLTRO, with the maturity increased to three years with more generous terms,” he said, adding that this will help Italy in particular.

Italy in fact led the rally in government bond markets with 10-year bond yields sliding 20 basis points to a record low at 0.78%.

Across the euro area, 10-year bond yields were down 8-10 bps on the day with 30-year German Bund yield pushing decisively back into negative territory have dipped above 0% earlier this week.

The euro fell back below $1.10 after initially surging on the ECB announcement.

After trading as high as $1.1070, the single currency then dropped to $1.0961, the day’s low and down 0.5% on the session as investors digested news of the rate cut and relaunch of QE.

The euro hit a 28-month low earlier this month of $1.0926.

Inflation expectations meanwhile shot up to 1.31%, their highest level since late-July, as the ECB’s policy action boosted confidence in the central bank’s ability to lift inflation. It had been at 1.26% earlier in the day.

“So far, the headlines point to the ECB not holding back, with Draghi getting his way one last time,” said Marchel Alexandrovich, senior European economist at Jefferies.

Euro zone stocks meanwhile swung into positive territory after the announcement, though the benchmark index eased off the session high to stand 0.3% higher by 1225 GMT.

The euro zone banking index jumped as much as 1.4%, cheering the introduction of rate tiering, a move that should mitigate the pain of lower interest rates on the battered financial sector. However, the shares later slipped 1.6%.

Carsten Brzeski, chief economist ING Germany said it remained unclear if the ECB move would be sufficient to get growth and inflation back on track.

“The real elephant in the room is fiscal policy. It is clear that without fiscal stimulus, Draghi’s final stunt will not necessarily lead to a happy end,” he said

Britain’s 10-year gilt yields dropped 6 basis points on the day to 0.58%, dragged lower by the fall in euro zone bond yields. U.S. Treasury yields also tumbled as the ECB’s policy action rippled out across world markets.

Reporting by the London Markets Team; Writing by Dhara Ranasinghe; Editing by Sujata Rao and Chizu Nomiyama